The oil market, which occasionally experiences significant daily price changes, may be quite perplexing to both professional and individual investors.
This article provides a general overview of the factors influencing the oil market and explains how to include oil as a financial investment in your portfolio.
Demand
Global trade in oil is common. In 2023, the world’s oil demand is expected to reach an all-time high of more than 98 million barrels per day, according to the U.S. Energy Information Administration (EIA). Although demand in developed markets tends to decline as oil prices rise, demand from developing emerging market economies is anticipated to climb as these nations industrialize regardless of oil prices.
Consumers in certain emerging market economies receive fuel subsidies. Subsidies, though they frequently increase domestic demand, can also force a nation’s oil producers to sell at a loss, therefore they are not always good for a nation’s economy. As a result, cutting subsidies can enable a nation to boost oil production, which will increase supply and drive down prices. Additionally, by encouraging refineries to manufacture products like gasoline and diesel at higher oil prices, reducing subsidies can reduce any scarcity of refined goods.
Supply
The production of oil will reach another record-high level of 101 million barrels per day in 2023, while oil exploration as a whole is on the decline.
1 For instance, the quantity of fresh reserves discovered in 2017 was the lowest since the 1940s, and this trend has continued every year since 2014 as funds for oil exploration have been reduced as a result of the decline in oil prices throughout the 2010s.
The majority of OPEC members are unable to produce much more oil. The lone exception is Saudi Arabia, which has an estimated 1.5 to 2 million barrels of oil per day in reserve.
Superiority and vicinity
Lack of high-quality sweet crude, a type of low-sulfur oil required by many refineries to comply with strict environmental regulations, particularly in the United States, is one of the market’s biggest issues. Because of this, even though domestic oil output is increasing, the United States still needs to import oil.
Each nation has a unique potential for refining. For instance, the United States generates a sizable volume of exportable light crude oil. To maximize production based on refining capacity, it imports various kinds of oil.
The locations where oil is produced for sale vary as well. For instance, the main distinction between West Texas Intermediate and Brent Crude is that West Texas Intermediate comes from American oil fields, mostly in Texas, Louisiana, and North Dakota, whereas Brent Crude comes from oil resources in the North Sea between the Shetland Islands and Norway. Both West Texas Intermediate and Brent Crude are light and sweet, making them excellent candidates for gasoline blending.
Options for Investing in the Oil Market
Whatever the underlying causes of fluctuating oil prices, there are several ways for investors to get involved in the oil market and profit from variations in energy costs. The majority of oil trading occurs in derivatives markets using contracts for futures and options. There are various alternative ways to diversify your portfolio with oil, though many individual investors may not be able to afford these.
Through stocks of oil drilling and servicing firms, the typical person can invest in oil in a straightforward manner. Investors can also acquire energy-sector ETFs to gain indirect exposure to the oil market. The iShares Global Energy Sector Index Fund (IXC) and T. Rowe Price New Era Fund are two examples of sector mutual funds that invest primarily in energy-related stocks (PRNEX). These less risky energy-specific mutual funds and exchange-traded funds (ETFs) invest exclusively in the stocks of oil and oil services firms.
Through an exchange-traded fund (ETF) or exchange-traded note (ETN), which normally invests in oil futures contracts rather than energy companies, investors can get a more direct exposure to the price of oil. These products closely track the price of oil compared to energy equities, acting as a hedge and portfolio diversifier because oil prices are essentially unrelated to stock market returns or the movement of the US dollar.
